Japan Cannot Grow by Stimulus Alone

By: Ashley Kindergan

Published: October 3, 2013

You’ve got to give Shinzo Abe credit. Early plans for Abenomics, the Japanese prime minister’s audacious plan to pull the country’s economy out of its decades-long doldrums, were greeted with skepticism. But the first two “arrows” have pretty much hit their marks. First, the government implemented an unprecedented monetary stimulus in April. And second, they recently announced a $50 billion fiscal stimulus to further jumpstart the economy. And so now comes the hard part: the third arrow, structural reform. Changing monetary or fiscal policy is one thing. Changing the way a country goes about its business is another. Especially, as Credit Suisse points out, when labor force demographics are moving against you. The bad news is that Japan seems likely to face a labor shortage in coming years no matter what it does. The good news? The people of Japan will have a say in just how big that shortage will turn out to be.

Fact: Japan’s aging population and low birthrates will reduce the size of the workforce dramatically over the next decade. That, in turn, will slash the country’s long-term growth potential, according to Credit Suisse’s Japan economists. Even assuming a best-case future scenario in which that shortage of workers drives up wages and spurs a greater proportion of Japanese adults to enter the workforce (particularly women, who have one of the lowest participation rates of any rich country at 47 percent) the bank expects that the economy’s maximum possible growth rate will fall by about a tenth of a percent each year for the next 15 years. The worst-case scenario, in which labor force participation rates stay where they are right now, puts the decline at half a percent a year.

The Japanese government recently paid lip service to one obvious solution – encouraging more immigration. The trouble is, a recent reform proposal only targets the kind of highly skilled workers Japan already has in abundance, not the low-skilled workers it desperately needs. “Policymakers looking to eliminate labor market bottlenecks should be exploring means of allowing less skilled and less educated foreign workers to meet untapped demand in particularly important job types and sectors,” the analysts wrote in a recent note entitled “Lack of Appropriate Immigration Policy a Failure of Abenomics.” “Japanese immigration policy as it currently stands is unlikely to provide a significant boost for the domestic economy’s potential growth rate.”

Japan’s demographic squeeze started quite some time ago. The Japanese working-age population—those between the ages of 15 and 64—peaked in 1995 at about 87 million. And it’s still headed down. The national statistics bureau expects the cohort to shrink by 0.9 percent a year from now until 2028, and reach 70 million by 2030. In a research note published this summer, “Japan’s Potential Growth Rate Set to Slip into Negative Territory,” Credit Suisse Japan economists Hiromichi Shirakawa and Takashi Shiono analyzed the effect of Japan’s demographic changes on potential GDP – the theoretical maximum of what an economy can produce. Between 1991 and 2001, the drop in the total number of hours worked – the result of both a shrinking workforce and a gradual switch from six- to five-day weeks – subtracted 0.29 percentage points from Japan’s potential GDP. Between 2002 and 2012, an additional 0.4 percentage points got shaved off. No other component of potential GDP—sources of public and private capital as well as productivity measures—dropped so starkly.

Japan now has about 680,000 fewer workers than it needs for its economy to hum along at maximum capacity, a Credit Suisse analysis showed in a Sept. 30 note called “Estimating Potential Excess Demand for Labor.” But the shortage isn’t spread evenly. Japan has fewer doctors, nurses, caregivers, construction workers, transportation workers, hospitality workers and domestic workers than it needs. Take out the doctors and nurses, and most of those jobs are relatively low-skilled endeavors. Meanwhile, the country has an oversupply of business managers and manufacturing workers. Yet work visas are largely limited to people involved in “advanced specialized and technical activities,” such as business executives and manufacturing technicians, Credit Suisse said.

The Japanese government ignored that mismatch in a set of reforms proposed this summer, which made no mention of welcoming in the mostly low-skilled workers that Japan’s economy actually needs, but did include provisions that would make it even easier for “highly skilled foreign professionals” to immigrate by lowering minimum income standards and reducing the waiting period for obtaining permanent resident status from five years to three. In other words, Credit Suisse analysts argued, while the government did finally concede that the country needs to embrace immigration more wholeheartedly, it focused on the wrong kind of immigrant.

It’s far too late to hope that Japanese couples could solve the country’s demographic problem on their own. Though the 2012 birth rate was the highest since 1996, the increase only brought the number of children the average Japanese woman can expect to have over the course of her lifetime to 1.4. That’s not enough to replace the current population, and because the country is already graying fast, the death rate exceeds the birth rate. “Even a sharp rise in fertility rates would take at least 15 years to begin impacting the working-age population,” analysts noted.

While the Japanese government has intervened plenty this year in an effort to end persistent deflation and stimulate the domestic economy in the short-term, they have failed to address the most obvious solution to a pressing long-term growth ceiling, which is to welcome the relatively unskilled and uneducated.

But Japan certainly isn’t alone in feeling skittish about being inundated with low-skilled workers. Jokes and political platforms devoted to fretting about an influx of Polish plumbers and Romanian construction workers are common in Western Europe, and some in the United States dream of building an impenetrable fence along the southern border to keep out the fruit-pickers, day laborers and dishwashers coming in from Mexico and Latin America. But for Japan, keeping out low-skilled immigrants will limit the country’s growth over the next 15 years – and stimulus may not be enough to fix that.